March 08, 2021 12:00 AM

Graphic: Is it time for DC plans to embrace private equity?

Private equity has been the best long-term investment asset owners have made in the last 25 years, but defined contribution plan participants have largely been locked out of the asset class. Time will tell whether DC plan sponsors are able to overcome the legal, accounting and structural challenges to add private equity to their plans.

Outperformer: Private equity has significantly outperformed public stocks over long periods of time, net of fees. Over the 25-year period ended Sept. 30, private equity returned about 13.5% annually, while U.S. equities returned almost 9%. Private equity fared even better when compared with non-U.S. public equities.

Bright future: Although lower interest rates have decreased expected returns for all asset classes, private equity's superior returns are expected to continue. A survey of managers and consultants points to 300 basis points of outperformance persisting into the future.

Returns up, risk down: Moving half of equity allocations into private equity would increase expected returns by about 50 basis points for a typical 2025 target-date fund, and expected drawdowns would be lower. The risk/reward trade-off would be even better for participants with more equity exposure.

Success story: The Washington State Investment Board oversees a DC investment option that incorporates private alternatives. Over the past 10 years, the strategy exceeded its benchmark by more than 1 percentage point and surpassed a 50% S&P 500 and 50% U.S. Treasury index.

	One year	Three years	Five years	10 years
Total Allocation Portfolio	12.43%	9.70%	10.86%	9.54%
Benchmark	14.44%	8.90%	10.34%	7.97%
S&P Balanced Equity and Bond index — Moderate	14.61%	10.45%	10.00%	9.39%

*Does not equal 100% due to rounding. Sources: Cambridge Associates; Horizon Actuarial Services; Washington State Department of Retirement Systems; Bloomberg LP; Pensions & Investments